In 2023, we expect to experience an environment with slow growth, inflation will peak, and new monetary policies will be prepared. This is typically a favorable background for investors seeking income.
2023 will offer a very different investment environment for investors when compared to the period of end 2021 and beginning 2022. Bonds that were the biggest losers in 2022 could regain much of the ground they lost in 2023. This is particularly true for quality bonds of developed markets which should benefit from the global macro trends that temper inflation.
As we are approaching the end of the present interest rising cycle, investors are being recommended to become much more tactical, flexible, and to some extent, opportunistic. Great opportunities will not stay there for long as distortions will be identified and taken advantage of relatively rapidly.
Where best to benefit from the comeback of bonds
With interest rates starting to decline somehow in the 2nd half of 2023, bond prices should move higher and yields down. This in particular applies to high-quality bonds and investment grade from Europe, as well as to treasuries, investment-grade bonds, municipal bonds, mortgage-based securities and top investment-grade names in the US. The fact that interest rates have risen in the past quarters will reduce the new home supply. Not only have the base materials for construction become more expensive, but at the same time the borrowing costs have gone up too. This constellation will reduce new home supply which in turn will make existing mortgage-backed securities that offer an average yield pick-up of 1.5% p.a.
Another income segment we like is Credit IG Europe. One could argue that the war in Eastern Europe is going to impact the well-being of corporations. This is true only to some extent; the index of Credit IG Europe contains the 125 largest and most well-known companies in Europe. So, in other words, we are talking about corporations like BAT, Nestlé, Zurich Insurance, BASF, and Royal Dutch amongst others. Investing in credit offers a yield pick of around 1.5% p.a. when compared to traditional offerings. Here too, the transition from one economic cycle to another (end of interest rising cycle to the progressive monetary policy) should be beneficial for them.
There are, however, some concerns for the high-yield segments in the U.S. and Europe. While most companies have relatively strong balance sheets, we expect the present economic cycle to not bode well for some of the entities within this classification. In fact, many of these companies operate as challengers or disrupters in a mass market segment thereby they are exposed to a much less regular client base, and their financial ratios are less lean than the bigger and well-established corporations.